VA providers seek regulatory boost to products in Asia

Dealers seeking variable annuity related hedging opportunities in Asia-Pacific are focusing on South Korea. While some players have sold hedges based on structured variants of CPPI, dealers hope that the prospect of new regulation in Asian markets could prove beneficial for derivatives-based solutions

With a broadly ageing population and a rapidly developing insurance market, the Asia-Pacific region should be an increasingly attractive prospect for bancassurance and investment-linked insurance products. Japan, for example, is home to the world’s second largest variable annuity market with ¥18 trillion of assets under management, according to Nomura.

Despite the attractive underlying market fundamentals for guaranteed investment products, however, dealers say the region’s variable annuity market is struggling to recover its pre-crisis momentum and is being held back by a combination of investor expectations, competitor products and a lack of regulatory focus on sophisticated hedging and risk management.

Many stars have to align for variable annuity markets to take off. With the exception of Japan, most Asian markets suffer from ageing populations with relatively low individual savings, but there is more to it than that. “It’s essential that existing insurance products do not already target the client segment, and that insurance companies have relatively wide distribution channels to access customers. Furthermore, the regulatory regime needs to offer a favourable cost of capital to insurers to create variable annuity products, and hold the various risks associated with them,” says Jerome Niddam, head of pricing and new products, cross-asset solutions, Asia-Pacific at Société Générale Corporate and Investment Banking, who covers the Asian insurance sector from Hong Kong.

In general, market volatility and historically low interest rates since the financial crisis have undermined insurance companies’ ability to offer attractive guarantees and premium income has suffered accordingly. In Japan, for example, revenue from variable annuity premiums has fallen from more than ¥4 billion in 2006 to less than ¥500 million in 2011, according to the Life Insurance Association of Japan. Moreover, recent attempts to launch new variable annuity-type insurance products in markets like China, Singapore and Malaysia have failed to generate significant investor interest, given the prohibitive cost of structuring attractive guarantees.

Market expectations around the guarantee levels available from variable annuity investments were inflated by the launch of what dealers now call significantly mis-priced products in 2007 when HSBC and ManuLife launched deals in Hong Kong, with the former gathering around $1 billion in premium income. “The variable annuity market in Hong Kong was born in 2008 and died very quickly after a couple of very successful launches raised a significant amount of money against high guarantees structured at a relatively low cost. Both providers withdrew these products after they realised they had priced the guarantees too aggressively. Unfortunately, this experience has raised investor expectations around guarantee levels to unsustainable levels and while we see interest in the product, few investors are actually allocating capital,” says a Hong Kong-based head of equity structured products.

Derivatives dealers, who have traditionally sought to access the Asian retirement-age population through structured note sales via insurance companies, or by providing hedges for variable annuity guarantees, are understandably frustrated by the significant reduction in demand from both customer bases. Furthermore, in new markets such as China, India and Taiwan, where regulation has been relatively muted on the issue of market risk hedging, insurance companies have been able to offer relatively simple products that provide a modest benefit in event of the policyholder’s premature death without turning to investment banks for what they perceive as unnecessarily costly hedging products.

“The type of products we see being launched in new markets around the region are basically 101 products that offer a low guaranteed death benefit. The cost of managing the mortality risk in such a product – typically around 10 basis points – is trivial compared with the 3% or so that banks usually charge to hedge the market risks in traditional variable annuity products. Under these circumstances, insurers have little incentive to share their fees with investment banks,” says the dealer.

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VA providers seek regulatory boost to products in Asia